BeTa-MKV An Estimated General Equilibrium Open Economy Monetary Model of Interacting European Economies

The BeTa model is a macroeconomic model that – in the spirit of the QUEST III-RD model and the  RHOMOLO model – adopts the theoretical approach of the product variety semi-endogenous growth model of Jones (1995; 2005). It has a dynamic innovation process, described by the interaction of the choices taken in three sectors (Varga et al., 2013): the R&D sector, the household sector and the monopolistically competitive intermediate sector. Furthermore, based on the fact than in the macro model of Varga et al. (2013) a human capital (HC) sector is missing and given also the spirit and the aim of the present study, a fourth sector describing the HC setup was included. More in the specific for the Human Capital sector is based on Varga et al.’s endogenous growth formulation. Furthermore, the Diamond-Mortensen-Pissarides search and matching labour market structure allows to account for the interaction of ex-ante investments on Human Capital and costly search in the labour market suggested by Acemoglu.

The model is based on a hybrid formulation structure which consists in equations partly derived from “hard theory”, partly from “soft theory”.

• Hard theory: the micro foundations (i.e. formal hypotheses on preferences and technology), and inter-temporal optimization under rational expectations (i.e. model-consistent expectations/certainty equivalence) are considered to derive the behavioural equations; and
• Soft theory: general macroeconomic reasoning, supported by statistical information, is used in the specification of the mathematical representation of economic behaviour.

The following detailed assumptions are used in determining the exact input data for the BeTa model:

• training is funded through additional public resources: private resources that are freed through deadweight loss for the public authorities, are reflected in the simulation as higher disposable income for individuals and lower costs of labour for employers;
• no substitution effects with existing public training support schemes: those participating in training would have either not participated in absence of support or done so thanks to individual, private resources;
• additional investment in upskilling activities resulting from voluntary cost-sharing is assumed away;
• given the model is based on the representative agent, individuals are not heterogeneous. The simulation focuses on the EU-average annual value of training undertaken irrespective of any dynamics linked to individual accumulation. Decreasing marginal returns over time are also assumed;
• from a long-term perspective, fixed set up costs are omitted. This is justifiable because from a long-term perspective, one-off costs become negligible. Hence, the focus lies on operational yearly costs;
• the average cost of training for the EU-27 estimate is calculated based on the number of training entitlements redeemed by each target group, in each country, using as deflators for the education sector as per the cost benefit analysis. It is therefore a weighted average which adjusts to the amount of entitlements used by each country and target group.
• input data used for this simulation is based on the middle ground scenario for the take up rate of the training entitlements and considers, as net effects on training participation, all the economically relevant additionality in training undertaken (i.e. all the training which would have not been undertaken without the training entitlements).
• wage levels are left free to fluctuate to ensure macroeconomic coherence in combination with the increases in taxes, monetary transfers (training purchased with public resources that would have been purchased through private ones) and effects on the job matching function. This is necessary as all these factors (taxes, transfers and changes to job finding rates) affect the value wages at equilibrium levels, hence it is impossible to fix them exogenously.

The model inputs consist of a rich and large dataset which is required by the estimation strategy. The data that will be used in the estimation stage are:

• GDP, consumption,
• investment,
• imports,
• exports,
• wages;
• the unemployment rate,
• the rates of change of the price deflators for consumption,
• import,
• export,
• nominal effective exchange rate,
• the domestic and the monetary policy short term interest rate,
• labour force,
• participation rates,
• data on R&D,
• human capital